What’s Happened to Emerging Markets?

Not long ago emerging economies and their stock and bond markets were darlings of the investment world. The countries sank a lot at the beginning of the financial crisis, but they bounced back much more quickly. They didn’t have the debt overhangs and other problems of the developed world. They maintained reasonable policies in the ensuing years. Yet, these days emerging stock markets in general are tanking, and their economies and currencies also aren’t doing too well.

The culprit seems to be U.S. policy, especially Federal Reserve policy. It caused a flood of money into the emerging markets and created imbalances. Now, that money is flowing out of the emerging markets, causing more problems. For a brief, excellent summary of the situation, look at this John Taylor post and the links in it. On paper EMs should be good investments and are cheaper than developed world markets. But their problems are likely to continue.

This view—which I share—implies that US behavior–such as the on and off unconventional monetary policies and their impact on capital flows, first out and now back–should at least share some of the blame.   The US did not create such problems when it was following more rules-based conventional policies during the great moderation period of the 1980s, 1990s and until recently. Then it was correct to say that the emerging markets had no one to blame but themselves. But many of these countries changed policies for the better. Unfortunately the US also changed policies, but more for the worse.